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10/28/2007

Rising Food Prices and What That Means-Becker

Malthus and the many neo-Malthusians of modern times assume that the threat from world overpopulation would show up first in rising food prices. The biologist Paul Ehrlich even predicted in 1968 in the book "The Population Bomb" that hundreds of millions persons in the world would be starving by the mid-1970's because of food shortages. Of course, that absurd forecast never materialized because during the past 40 years worldwide prices for grains and most other basic foods fell relative to non-food consumer prices. This has reversed during the past couple of years, especially in 2007, as food price inflation has greatly exceeded the price increases of other consumer prices. Are the Malthusian fears finally being realized, or is this rise in food prices due to other forces?
Little evidence supports the role of population growth as an important factor behind the recent spurt in food prices since the growth in world population has slowed in each subsequent decade during the past 30 years. A more significant force behind the rise in food prices is the rapid growth in the per capita incomes of developing countries, especially China and India, which has raised world demand for proteins found in grains, dairy, and meat. Subsidies to corn and other crops to produce biofuels have also reallocated substantial acreage away from food production, and toward the production of substitutes for oil and other fossil fuels. Ethanol production will consume almost 30 percent of corn production in the United States next year, which mainly explains the rapid rise in world corn prices. In addition, droughts and animal disease in major food producers like Australia and China contributed also to recent food price increases.
Many countries were panicked by the sharp rise in food prices during the past couple of years into imposing price controls on basic foods, export restrictions on food production, subsidies to food imports, and various other measures. This is reminiscent of Richard Nixon's 1973 ban on the export of soybeans from the United States because of rising soybean and other food prices. Russia, faced with parliamentary elections in December, has imposed export duties on some grains, while Putin pressured major food retailers to freeze prices on various foods until the election. The Moroccan government forced bakers there to hold the price of bread steady during the holy month of Ramadan. The European Union has suspended, unfortunately not rescinded, its rules that prevent farmers from planting cereals on a specified fraction of their land. Many other countries are also considering controls, subsidies, and regulations to prevent food prices from rising so rapidly.
Most of these policies are counterproductive because they discourage rather than encourage food production. This is especially true of price controls since farmers will grow less of the foods that have artificially low price ceilings. For example, if price controls were placed on wheat, farmers will shift some land from wheat to other products whose prices are allowed to rise faster. Subsides to food production generally lead to greater supplies of food, but at the expense of distorting the allocation of resources between foods and other goods that consumers want. On the other hand, removing tariffs on food imports, removing subsidies on food exports, and easing restrictions on how farmers can allocate their land among different uses do contribute to greater efficiency in worldwide food production and consumption.
Food prices declined relative to other prices during the past 40 years, and in fact for most of the 20th century, because of remarkable advances in food production technologies. These include the development of better fertilizers, new crop rotation methods, control of diseases to plants and animals, better breeding techniques, genetic modifications of crops, and other innovations. There is little reason to expect any slowdown in the rate of innovation during the next several decades, especially if governments reduce their restrictions on genetically modified crops, and if farmers are allowed to respond freely to market prices and other signals.
Rapid increases in the cost of foods hurt consumers in poorer countries more than those in richer countries because households in poorer countries spend a much bigger fraction of their incomes on food. Food accounts for about 10 percent of total consumer sending in the United States and other rich countries compared to over 60 per cent in very poor countries like Afghanistan, Nigeria, and Bangladesh. This means that say a thirty percent rise in food prices over a 5 year period, with other prices and money incomes held fixed, would reduce the standard of living in rich nations only by about 3 per cent, but it would lower living standards in poor nations by 21 per cent. The nutrition of Afghanis and consumers in other poor countries who are already close to the minimal subsistence margin would be severely affected.
Similarly, poorer consumers within a country spend larger fractions of their budgets on food than do rich consumers. Hence, the poor would be hurt more by rises in prices of basic foods. This is a main reason why governments are so sensitive to price increases of grains and other stables of the poor. If they forget, political leaders would be reminded of the 1977 Egyptian riots after that government raised bread prices, or the Mexican unrest at the beginning of this year when the price of the flat corn bread used to make tortilla, a staple of the diets of poorer Mexican households, rose by several hundred percent.
My conclusion is that putting aside two major uncertainties, the Malthusian fears about rising food prices will not materialize. Food production will adapt to the growing demands from developing countries, and food prices in the future should continue their downward trend of the past century. One uncertainty that could upset this optimistic forecast relates to global warming, for food prices might rise steeply if global warming had sizable negative effects on the worldwide productivity of agricultural land. The second concerns biofuels, since food prices would also increase if sizable amounts of additional acreage continue to be diverted to production of ethanol and other biofuels in the attempt to cut down the use of fossil fuels.

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Among the "sensible" actions might be more cooperation with others. Becker points out that we impose a high tariff on Brazilian ethanol. But sugar give and 8 : 1 return on energy invested by comparison to 1.25??? or less? for corn. Are we no longer believers in relative advantage and "free trade?"

Even worse this is a description of Mexico's sugar situation:

With the North American Free Trade Agreement, NAFTA, the industry hoped to export their sugar excess to the United States, and thus acquire additional revenue that would be used to pay for the harvest, repay part of the loans, and invest in modernizing the existing infrastructure. Unfortunately, the US has not fulfilled NAFTA's agreement on sugar and thus, the mills are left with tons of sugar in their warehouses without buyer: they cannot sell them at home, because of the saturization of the domestic market nor in the US. The loss is unquantifiable and the industry will need more than a restructurization to bring it out of 90-year crisis. The government has been left with a great challenge: restructure the industry while providing for those 2.5 million people that depend on the industry for their monthly income.

http://www.american.edu/TED/mexico-sugar.htm#r1

If we're at all serious about slowing the migration of Mexicans to the US shouldn't we be looking for win-win trading opportunities that would employ them on their own economy?

Let's see, an $8 billion subsidy for the barely breakeven corn ethanol as compared to spending the $8 billion on an 8 : 1 source in a low wage country should give us at least $50 - $60 billion of ethanol and help to solve a portion of Mexico's surplus labor problem, not to mention making tortillas affordable again.

But why the newspaper column style, free-floating from anything that has been said in the blogosphere this week? I think you'd attract a more sophisticated audience if you dropped it and engaged the other elite economics bloggers --- Brad DeLong, Tyler Cowen, and Paul Krugman. They're part of a friendly but critical conversation that has gained a lot of media influence.

I thought you made good points on the share of a countries income being higher in developing countries than developed however I have a question.

Wouldn't that rise be partially be offset by the rise in food? I expect that these same countries have a higher percentage of their income from agriculture too, so a rise in prices would increase their paychecks.

This all depends on how much the rise in income is, they could still be worse off.

Given that food is one of the major goods traded in the world economy, that the US dollar is one of the major currencies used internationally and that many analysts in the financial sector have biases, I would not be surprised if it were to be eventually realized that the increase in food prices was due to the falling value of the US dollar (along with certain other currencies) rather than the rising value of food.Maybe the costs of food production really have increased or maybe there really is more demand or maybe there really are market inefficiencies creating artificial shortages but there's also the USA's massive budget deficits (that the Iraq war sure hasn't helped) and the Federal Reserve's policy of buying up the debt in order to keep interest rates low while China buys up US dollars to keep the dollar from devaluing. These kinds of questionable policies could be creating a situation that we'd like to believe is an increased value of food but that is in fact something else entirely.

Wes I think you've hit many of the factors. I don't know, on average, what the energy component of food is but add up farm production, and I think US food is transported over 2,000 miles, the energy used to make products and box or wrap them, and the energy consumed in stores with open coolers etc. and it must be substantial.

Somehow wars always add to food costs, perhaps filling up the pipeline to get food delivered half way around the world, much of it wasted as wastage is inherent in wars and perhaps especially in Iraq's climate, plus Iraq is now so screwed up we're probably providing half of their food too....... one war cost I don't object to when H-burton actually delivers what it charges for.

Ha, Ha! The US, with huge trade deficits, instead of cashing in a bit on the high corn prices our idiotic ethanol subsidy has created, is instead trying to fill the tanks of its fleet of gashogs with even pricier fuel made with increasingly costly fossil fuels! Oh well, perhaps make it up on volume?

I agree primarily that policies should encourage food production, especially abroad, but the Mexico case was brought on by NAFTA. American access to the Mexican corn market dropped prices enough to drive many domestic farmers out of the market. Mexico should have filed an anti-dumping case against the US, but didn't and this was the result. Meanwhile the WTO was supposed to lower barriers and allow access to OECD agricultural markets but due to the way it was negotiated that didn't happen. This is the issue where the Doha negotiations are stalled.

The real problem is that the bias in expanding agricultural production (which is needed) is toward extreme labor efficiency when where the production needs to be expanded labor is a much cheaper factor. In order to re-establish falling food prices there needs to be technical advancement to allow the efficient allocation of factors in the third world.

I agree that new (fuel) role of bio-products with increasing oil price may cause people starve in near future. No remedy, although. Just economic efficiency.
Hopefully, genetics can meet requirement of ethanol production with some breeds which are not eable. Again economic efficiency.

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